A. Sermon Inc. has a Pound 100,000 invoice that it needs to pay in six months (July) and uses options to hedge. Pound Call Options are traded on the CBOE exchange. The July Pound 120 Call has a premium of $0.04. If the Pound Spot rate in July is $1.15, should Sermon exercise its call option? What is the effective hedge rate (cost of hedge) for Sermon in this scenario including any option costs?
B. Using the same Sermon example is above, assume it decides to hedge its P100,000 payable using a Money Market Hedge. The Pound spot rate today is $1.20, interest rates are 3% in UK and 5% in U.S. for the six-month period.
C. Describe the steps in executing a money market hedge for Sermon.
D. What is the effective hedge rate (cost of hedge) for Sermon using this strategy?